Where could SA growth surprises originate from? - Angles & Perspectives Q4 2024

Where could SA growth surprises originate from?

Although 2024 was a turbulent year for most South Africans, numerous positive developments during the year mean that, for the first time in more than a decade, the start of the new year holds renewed optimism for both the local economy and markets. Despite strong performance from South African assets since the formation of the Government of National Unity (GNU), we continue to see opportunities for positive future returns, as a range of diverse factors has the potential to amplify each other’s impact.

An economy finally primed for growth

Could we still see an end to load shedding?
South Africa experienced ten load shedding-free months before experiencing a two-day relapse at the end of January 2025. Eskom said in a statement that its Summer Outlook remains unchanged, meaning that the outlook for low levels of load shedding remains positive despite this setback. The improvement, driven by a year-to-date 7% increase in the energy availability factor (EAF) to 62%, is attributed to the ongoing implementation of the Generation Recovery Plan and enhanced maintenance protocols. Under this plan, Kusile Unit 2 and Koeberg Nuclear Power Station Unit 2 were added back into the grid in November and late December 2024 respectively. While an end to load shedding is not guaranteed, if Koeberg Unit 2, Medupi Unit 4 and Kusile Unit 6 are all successfully brought to full capacity, and private sector renewable energy (22 500 MW of confirmed projects) continues to come on line, load shedding could potentially be a thing of the past.

While estimates of the impact on GDP from load shedding vary, with some studies also considering knock-on effects to confidence and investment, it is likely to have subtracted 1% to 2% from GDP in 2022 and 2023.

An improvement in rail and port infrastructure?
Operation Vulindlela was launched in October 2020 to address constraints in network industries (electricity, digital communication, water and freight transport) and improve work permit and visa processes, and has had a significant impact. In contrast to many other historical plans, Operation Vulindlela has made an impact due to its structure (joint initiative of the Presidency and National Treasury), focus on a limited number of key reforms, and support from ministers – particularly following the formation of the GNU. While the most obvious impact for consumers is the reduction of load shedding, Operation Vulindlela has also made progress across the other focus areas, including logistics – where the focus is on Transnet.

Analysis by the Gain Group indicated that Transnet’s poor performance negatively impacted the South African economy by an average 4.5% of GDP from 2021 to 2023. This is based on export potential not achieved (primarily for coal and iron ore), higher transport costs incurred through using road haulage, and indirect impacts on the economy.

The scale of the challenges facing Transnet cannot be underestimated, and will require substantial investment, capital, time and energy to address. But progress is being made under a refreshed board and management team, and with a clear recovery plan. Private sector participation has been embraced, with port concession proposals being put out to the market (albeit with legal-related delays). Ongoing declines in rail volumes have been arrested, with a 3.2% increase in the interim results released in December 2024. However, security, rolling stock availability and the condition of the rail infrastructure are all still significant challenges that will need to be addressed. And Transnet faces significant financial challenges, with substantial levels of debt and an interim R2.2 billion loss.

Incremental reform delivered by the GNU?
While markets reacted positively to the formation of the GNU, both South African citizens and investors remain cautious, having witnessed years of inaction despite numerous plans.
The GNU is focused on three strategic priorities:

• Driving inclusive growth and creating jobs
• Reducing poverty and tackling the high cost of living
• Building a capable, an ethical and a developmental state delivering full capacity.

Each of these priority areas is underpinned by key actions and plans. Crucially, it appears that, in general, ministers are taking their responsibilities seriously, are focusing on key deliverables, and are embracing public-private partnerships.

“…watching ministers do their job … we have been subjected to such mediocrity and incompetence for so long, observing people doing their jobs is just so inspiring…the public-private sector partnership is definitely going to grow…”
- Busisiwe Mavuso – CEO Business Leadership South Africa – GIBS Economic Outlook 2025 (4 December 2024)

Increasing business and consumer confidence
Reduced load shedding, the successful formation of the GNU, and initial progress on addressing structural impediments to growth have led to increased business and consumer confidence.

There is a strong correlation, as would be expected, between medium-term average business confidence and GDP growth:

With the Bureau for Economic Research (BER) Business Confidence Indicator having risen from 30 to 45 index points over the course of 2024, it is reasonable to expect an improvement in economic growth to follow.

Inflation is contained and interest rates are set to fall further
With inflation at 3.0% year on year in December 2024, the South African Reserve Bank (SARB) forecasting 4.4% inflation in 2025, and the repo rate at 7.5%, there is room for further rate cuts (despite the Governor of the SARB making it clear that he favours lower inflation). The market is, however, only expecting one more rate cut in 2025, which would take the cumulative cuts from September 2024 to 1.0%.

Lower inflation and lower interest rates should support both spending and investment, adding further impetus to potential local economic growth.

Bringing everything together – what could it mean for growth?
While most economists cautiously assume a 1.5% to 2.0% p.a. growth rate for South Africa for the next five years, an upside scenario is acknowledged. The BER’s Impumelelo Economic Growth Lab considers the potential sustainable growth rate if envisaged ongoing reforms in electricity, infrastructure, water and service delivery identified by Operation Vulindlela are implemented.

While 2025 growth could be supported by cyclical base effects (for example, from a reduction in load shedding), ongoing reforms all happening at the same time could have significant knock-on impacts on confidence and investment, supporting sustainable higher levels of growth. In addition, most economists acknowledge their base case forecasts are conservative, and they generally assume no positive growth impact from commodities – we have written extensively about our positive medium-term outlook for select commodity prices.

The above analysis is similar to in-house research we have conducted, which supports 2% to 3% growth in 2025, and higher than consensus sustainable growth rates.

Risks to South African growth

While our base case is for reasonably sustainable growth in the local economy, there are a number of key risks that could derail this scenario:

• An uncertain global environment: The Republican clean sweep in the US elections, and Trump’s return to the presidency, means the range of potential outcomes globally is extremely wide. Trump’s stated policies, and tariffs in particular, could have significant negative impacts on numerous markets, including South Africa.
• Global risk event: Geopolitical tensions are high, and Trump’s return to power could potentially add further pressure. When one combines this volatile situation with weak fiscal positions in many developed market economies, and an expensive US equity market, the potential for material contagion from a shock is elevated. A risk-off event could negatively affect emerging market currencies and bond yields, as well as commodity prices, which would translate into weaker growth prospects for South Africa.
• Stability of the GNU: While there is apparently consensus in many areas across the GNU, the Basic Education Laws Amendment (BELA), Expropriation Act and approach to the National Health Insurance (NHI) are a few recent examples where there is heated disagreement.
• Continued implementation of plans: While initial indications are positive, and tangible actions are being taken, a history of talk without action means there is substantial scepticism about delivery on promises. Broken promises, deadlines not met, or inaction would confirm these fears, once again reducing confidence and negatively affecting growth prospects.

From the real economy to markets, and investment opportunities

South African equity return prospects
While there is no historical short-term correlation between GDP growth and equity market performance, looking forward over the short to medium term, we would expect decent GDP growth to drive strong returns from select equities:

• Earnings for many of the South African focused companies we hold would grow faster than currently anticipated.
• Higher growth prospects would support improved share ratings.

A combination of higher earnings and higher ratings can lead to exceptional returns for equity investors.

It is extremely interesting to note that, while 10-year rolling FTSE/JSE All Share returns and 10-year average GDP also show no correlation over the very long term, since the Global Financial Crisis (GFC), returns from the JSE have declined in lockstep with declining GDP growth.

Despite the strong rally in many South African focused shares since the formation of the GNU, we still see numerous extremely attractive opportunities in this area. Our clients own domestic stocks that are positioned to generate adequate returns in a low-growth environment. They should deliver exceptional returns on a multi-year above-trend GDP growth path.

South African bond return prospects
An improving GDP has a material impact on the debt-to-GDP ratio with tax revenues increasing – reducing the need to issue debt – and the GDP denominator rising. Given concerns around the sustainability of our current fiscal situation, with the debt-to-GDP ratio forecast in the Medium-term Budget Policy Statement to peak in 2025/26 at 75.5%, an improvement in the outlook for this ratio could reduce the risk premium investors demand, leading to further declines in yields. Lower inflation expectations associated with the SARB’s likely ongoing focus on the lower part of the 3% to 6% inflation target range could also provide fundamental support to South African nominal bonds.

As a result, despite strong performance from South African bonds since the formation of the GNU, real yields remain elevated, and we continue to see opportunities in this space.

Entering 2025 in a stronger position in an uncertain world

South Africa’s economic recovery is unlikely to progress smoothly. There are likely to be setbacks, reversals and disappointments along the way. Nonetheless, the potential for synergies between these factors makes us cautiously optimistic that outcomes may be better than generally expected, even against a challenging and an uncertain global backdrop. However, investors should note that not all shares listed on the JSE can be considered part of ‘SA Inc’. As such, to fully benefit from the upside potential of SA shares, investors will need to be very selective, and partner with a manager with a proven track record in this area.